How to Be Tax Compliant After Offshore Voluntary Disclosure Program Closes by Arthur Dichter, JD
The IRS announced it will end the Offshore Voluntary Disclosure Program (OVDP) on Sept. 28, 2018. This move will leave taxpayers with one less option for avoiding penalties and criminal prosecution when they did not previously report all of their non-U.S. income, or when they did not comply with all of the U.S.’s various reporting requirements applicable to non-U.S. income and assets.
The good news is that taxpayers who need the OVDP still have time to participate in the program, but they will have to hurry. The better news is that the IRS will continue to provide reticent taxpayers with other amnesty programs offering penalty relief and/or protection against criminal prosecution. Most of these programs, however, do not offer relief from income tax liabilities or interest on non-reported amounts.
It is common for non-compliant taxpayers to ask, “Which program is best for me?” While there is no on-size-fits-all solution, the answer will depend on the unique facts and circumstance of each individual’s specific case.
What are my Options to Become Tax Compliant?
Offshore Voluntary Disclosure Program (OVDP)
According to the IRS, more than 56,000 taxpayers have participated in the OVDP, and the government has collected more than $11.1 billion in taxes, penalties and interest since introducing the program in 2009. With the IRS’s plan to end the program on Sept. 28, 2018, taxpayers have a limited amount of time to apply to participate, receive clearance from the agency’s Criminal Investigation division and make their OVDP submission.
The OVDP requires taxpayers to file eight years of amended or original income tax returns (including all required information returns) and eight years of foreign bank account reports using FinCEN Form 114, Report of Foreign Bank and Financial Accounts (FBAR). Taxpayers will be subject to income tax, interest and penalties for lack of accuracy, late filing and/or late payment. In addition, they will be required to pay a one-time OVDP penalty equal to 27.5 percent of the value of their foreign accounts and certain other foreign assets for the year during the eight-year period where the aggregate value of such assets was the highest. This penalty increases to 50 percent when a taxpayer has accounts at certain financial institutions or when they received advice from certain individuals determined to be facilitators. The IRS has published a list of 146 facilitators and financial institutions that it considers “bad” and for which the 50 percent penalty will apply.
One of the key advantages of the OVDP is that cooperative taxpayers will be unlikely to face criminal prosecution. In addition, the program provides taxpayers with peace of mind in the form of a closing agreement concluding the matter and more certainty with respect to penalties, which may be less than what they would have faced under the Tax Code.
In addition to burdening taxpayers with a requirement to file eight years of income tax returns and FBARs, the OVDP is very rigid, and IRS agents have little flexibility regarding abatement of penalties. Moreover, taxpayers are required to track down and provide the IRS with account statements covering eight years of all of their foreign accounts, which can be a very challenging, expensive and time-consuming process.
Streamlined Filing Compliance Procedures
The streamlined procedure is available to both U.S. residents and non-resident taxpayers whose failure to report foreign financial assets and pay all tax due on their offshore income was the result of “non-willful conduct.” This means that their reticence resulted from negligence, inadvertence or mistake, or a good-faith misunderstanding of the requirements of the law.
A main advantage of streamlined procedures is that they require taxpayers to prepare fewer tax returns than required by other programs. Taxpayers must submit only three years of income tax returns (with all applicable information returns), six years of foreign bank account reports using FinCEN Form 114, Report of Foreign Bank and Financial Accounts (FBAR), and a certification statement indicating that they meet the streamlined eligibility requirements.
In addition, while taxpayers using streamlined procedures will be subject to income tax and interest on delinquencies, the IRS will not impose penalties for a taxpayer’s late filing and/or late payment, inaccuracy, or failure to file information returns. Taxpayers who qualify for the non-resident program will not be subject to any penalties, whereas taxpayers who qualify for the resident program will pay a 5 percent penalty based on the highest aggregate balance/value of their foreign financial assets during the years included in the penalty period.
The disadvantages to streamlined procedures include a lack of protection from criminal prosecution and exposure to IRS audit of submitted returns covering the delinquency period. In addition, once a taxpayer applies this procedure, he or she no longer has the option to participate in a voluntary disclosure. Finally, because the IRS typically does not acknowledge receipt of a streamlined submission, participating taxpayers will not have the certainty provided by an OVDP closing agreement. In other words, no news is the best news.
Delinquent FBAR, Delinquent International Information Return Submission Procedures
Taxpayers may avoid FBAR penalties and file delinquent FBARs directly to the U.S. Treasury Department with an explanation for their late filing, only when they satisfy all of the following requirements:
- they have unfiled FBARs,
- they are not required to use the OVDP or streamlined procedure to file delinquent or amended tax returns to report and pay additional tax,
- they are not already under IRS investigation, and
- they have not been contacted previously by the IRS regarding delinquent FBARs.
Under certain circumstances, taxpayers may qualify to file directly with the appropriate service center delinquent information returns and amended income tax returns, if required, along with a reasonable cause statement explaining the facts related to their failure to file. The IRS may impose penalties based on whether the agency agrees with the taxpayer’s reasonable cause position.
Returns submitted through these procedures will not automatically be subject to audit. Yet, they may be selected through the existing audit selection processes that are in place for any tax or information returns.
Service Center Filings
Some taxpayers who do not meet the eligibility requirements of the streamlined procedures, but who feel they do not have enough substantial offshore income and/or assets to justify an OVDP submission, may wish to simply file original and/or amended income tax returns with information returns and a reasonable-cause statement and hope for the best. This option also works for taxpayers who feel that there were extenuating circumstances that justified their failure to file properly. This is a very risky strategy, but it may be appropriate in certain cases. Taxpayers deciding to pursue this route should do so very carefully and only after consulting with an attorney with knowledge about offshore reporting matters and all of the available programs.
In the current regulatory environment, it is much more difficult for U.S. taxpayers to avoid reporting and paying taxes on foreign assets. To avoid exposure to criminal prosecution and significant penalties, it makes sense for taxpayers to come forward and disclose their offshore interests through one of the IRS’s amnesty programs. In addition to speaking with an experienced tax advisor, it is always a good idea for taxpayers to discuss their situations with an attorney.
The advisors and accountants with Berkowitz Pollack Brant work with domestic and foreign individuals and businesses to comply with international tax laws, maximize tax efficiency and reduce unnecessary compliance costs.
About the Author: Arthur Dichter, JD, is a director of International Tax Services with Berkowitz Pollack Brant, where he works with multi-national businesses and high-net worth foreign individuals to structure their assets and build wealth in compliance with U.S. and foreign income, estate and gift tax laws. He can be reached at the CPA firm’s Miami office at (305) 379-7000 or via email at firstname.lastname@example.org.